Business context and reporting period
ACE Limited, a Swiss-incorporated global insurer and reinsurer, filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2014. Its five segments were North American P&C, North American Agriculture, Overseas General, Global Reinsurance, and Life. The filing identifies ACE Limited as the registrant; it does not report under the name Chubb Ltd.
Unless otherwise noted, amounts are U.S. dollars. Financial comparisons below are with the corresponding 2013 periods.
Key financial metrics
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Net premiums written | $4.729bn | $4.620bn | $13.473bn | $12.809bn |
| Net premiums earned | $4.754bn | $4.610bn | $13.056bn | $12.250bn |
| Total revenues | $5.200bn | $5.172bn | $14.434bn | $14.187bn |
| Net income | $785m | $916m | $2.298bn | $2.760bn |
| Diluted EPS | $2.32 | $2.66 | $6.75 | $8.02 |
| Net investment income | $566m | $522m | $1.675bn | $1.587bn |
| Operating cash flow | $1.1bn | Not stated here | $3.222bn | $2.736bn |
At September 30, 2014, total assets were $97.557bn, investments $63.254bn, cash $806m, and shareholders’ equity $30.017bn. Unpaid losses and loss expenses were $37.447bn gross and $27.111bn net of reinsurance recoverables.
Total debt was $5.908bn ($1.851bn short-term and $4.057bn long-term); trust preferred securities were $309m. Debt-to-total-capitalization was 16.3%, compared with 16.4% at year-end 2013. Available credit lines were $1.4bn, of which $630m was in use; the company met its financial covenants.
Q3 P&C combined ratio was 86.3% on ACE’s measure, which includes crop-derivative gains; the GAAP combined ratio was 87.3%. For the first nine months, these ratios were 87.5% and 87.9%, respectively. Q3 catastrophe losses including reinstatement premiums were $86m pre-tax. Favorable prior-period reserve development was $232m in Q3 and $420m year to date.
Material changes versus the prior comparable period
- Q3 net premiums written rose 2.4%, but net income fell 14.2%; nine-month written premiums increased 5.2%, while net income declined 16.7%.
- Net realized investment and derivative results shifted to losses: $(120)m in Q3 versus $40m gains a year earlier, and $(297)m year to date versus $350m gains. Q3 results included a $76m loss associated with an increase in GLB reinsurance liabilities. Nine-month GLB-related realized losses were $124m, while related hedging instruments also generated losses.
- Q3 underwriting performance remained profitable, but underwriting income was $566m versus $576m. Acquisition costs rose 21.7% to $825m, and the GAAP combined ratio increased 0.8 percentage points to 87.3%. Management attributed higher acquisition-cost ratios in part to business mix and prior-year purchase-accounting benefits.
- Q3 net investment income increased 8.5%; management cited a larger invested asset base, higher private-equity distributions, and increased corporate-bond call activity.
- Comprehensive income was $298m in Q3 versus $1.030bn in Q3 2013. Nine-month comprehensive income was $2.754bn versus $1.247bn, reflecting a substantial year-over-year change in investment-related OCI.
- Operating cash flow increased to $3.222bn year to date, primarily due to higher premium collections, partly offset by higher losses paid. Financing cash flow turned to a $1.240bn use, including $1.007bn of share repurchases, $646m of dividends, and $501m of long-term debt repayments.
Outlook, management commentary, risks and unusual items
- The filing provides no specific earnings or revenue guidance. Management said operating cash flows should cover cash outflows under most loss scenarios in the near term, while noting reliance on investment sales and financing arrangements as additional liquidity sources.
- ACE acquired 93.03% of Thailand’s Samaggi for $176m in cash in 2014. It also reported a definitive agreement to acquire Itaú Seguros’ large corporate P&C business in Brazil for approximately $630m, with closing expected October 31, 2014, subject to completion.
- During Q3, ACE transferred $2.0bn of fixed maturities from available-for-sale to held-to-maturity, citing portfolio growth and diversification. This was a non-cash reclassification.
- An internal environmental-reserve review increased gross reserves for Brandywine and Westchester Specialty by $65m and net reserves by $63m. Q3 prior-period development included $69m adverse development in Brandywine, including $61m for environmental liabilities. Management cited higher remediation and defense costs, among other factors.
- Variable-annuity GLB liabilities and related fair-value results are sensitive to equity markets, interest rates, credit spreads, and policyholder behavior. The reported GLB liability was $566m at September 30, including a $317m fair-value derivative adjustment; the filing warns that model estimates and actual outcomes may differ materially. ACE stopped writing this business in 2007.
- Interest-rate exposure is material: ACE estimated that a 100-basis-point increase would reduce the fixed-income portfolio’s valuation by approximately $2.4bn. Catastrophe PML estimates are model-dependent; a modeled 1-in-100-year U.S. hurricane loss was $1.727bn net of reinsurance.
- Restricted assets included $15.7bn of investments and $72m of cash, principally supporting regulatory deposits, reinsurance trusts, and other collateral needs. ACE did not renew a $500m letter-of-credit facility that expired in June 2014, opting primarily for insurance trusts.
- The company issued $700m of 3.35% senior notes due 2024, repaid $500m of 5.875% notes at maturity, and reclassified $450m of notes due in May 2015 as short-term debt. It repurchased $1.019bn of shares through September 30; $924m of authorization remained at quarter-end.
- Management reported effective disclosure controls and no material change in internal control over financial reporting. It said there were no material changes to previously disclosed risk factors; ordinary-course litigation was not considered likely to be material to consolidated financial condition or results.
Important facts for investors to verify
- How much earnings depend on favorable reserve development, particularly the $420m year-to-date release, and whether adverse trends in agriculture or legacy environmental claims emerge.
- The sources and durability of underwriting growth and margins, including acquisition-cost pressure, business mix, and the effect of crop-derivative gains on the non-GAAP P&C combined ratio.
- How GLB reserve and derivative valuations respond to market movements and policyholder behavior, and how effective the hedges are against those exposures.
- Whether reinsurance recoverables are collectible and whether restricted collateral, credit-line availability, or subsidiary dividend limits constrain liquidity.
- Completion and integration of the Itaú transaction, performance of Samaggi and prior acquisitions, and the effect of acquisitions on premiums, expenses, and capital.
- The implications of investment portfolio interest-rate sensitivity, below-investment-grade holdings, share repurchases, and the company’s debt maturity schedule for capital flexibility.